Practical Technical Analysis (2006) Chapters 1-4
What is Technical Analysis?
Chapter 1 - What is Price?
Truth about Technical Analysis
- Principle 1
- "Technical analysis deals in probabilities, never certainties."
- Principle 2
- "Technical analysis deals with mass psychology."
- Prices moves in trends that are determined by the changing attitudes of investors towards many forces (e.g. economic, monetary, political, psychology).
- Principle 3
- "Both an art and a science"
- Art: use our personal judgement to interpret our findings.
- Science: use scientifically and mathematically derived indicators.
- Principle 4
- "History can repeat itself."
- Human nature remains more or less constant and tends to react to similar situations in consistent ways. Assume that people will continue to make the same mistakes they have made in the past.
- Four animals are mentioned often on Wall Street.
- Bulls - Buyers -> bets on rally, profit from a rise in prices.
- Bears - Sellers -> bets on decline, profit from a fall in prices.
- Hogs - Greedy -> gets slaughtered when they trade to satisfy greed.
- Sheep - Passive -> fearful followers of gurus and tips.
- The market is a huge mass of people.
- Each member of the crowd tries to take money from other members by outsmarting them.
- The market is uniquely harsh environment because everyone is against you, and you are against everyone.
- "Intersection of supply and demand curves."
- "Look at DBS, they are still making the same cash flow, they've still got the same book value, and the same assets - why the difference between prices today and one week ago?"
- Represents a momentary consensus of value between buyers and sellers and undecided traders at the moment of transaction. There is a crowd of traders behind every pattern in the chart.
- Price movement
- Reflection of the trend in the hopes, fears, knowledge, optimism and greed of market participants. Total of these emotions is expressed as price level.
- Price movement result from a fight between bulls and bears based on their expectations.
Announcement: COE will increase next month...
- Price movement = investors' expectations.
- Investors and traders are looking ahead and taking action.
- If expectations are better than expected, buying at current level or selling at a later stage.
- If expectations are worst than expected, shorting at current level or selling at earlier stage.
- "Sell on good news."
- When the good news is right on or below the market's expectation.
- If the good news is good but not as favourable as expected, a quick reassessment will take place, and the market (other things equal) will fall.
- If the news is better than anticipated, outcome will be more favourable.
- The market never discounts the same thing twice. Principle of discounting can be applied to any freely traded entity.
Chapter 2 - Crowd psychology and TA
Crowd Psychology and TA
- Each tick (price) is a momentary consensus of value of all market participants, expressed in action.
- Price is a psychological event - a momentary balance of opinion of bulls and bears.
- Price is created by mass of traders - buyers, sellers, undecided.
- Each bar on a chart reflect the battle between bulls and bears.
- Bulls feel strongly bullish, they buy more eagerly.
- Bears feel strongly bearish, they sell more actively.
- Charts are windows into mass psychology.
- When you analyse charts, you analyse the behaviour of traders.
Patterns of prices and volume reflect the mass psychology of the market.
Chapter 3 - Use of Charts
Why use charting in your investment/trading?
- Historical overview of mass psychology, movement in prices.
- Charts are windows into mass psychology.
- An objective and systematic way of evaluating your trades.
- Forecasting versus probabilities.
- Looking into crowd behaviour, join the crowd, get into high probability trades.
- Minimise loss, maximise gain.
- Together with fundamental analysis, or as a stand-alone strategy.
- Read the market, manage yourself. Analyse the balance of power between bulls and bears.
- Price good money management.
- Personal discipline is extremely important. Equally important to follow your trading plan so you can avoid
- Getting high in the markets.
- Not cutting position when the market is in free fall (cut loss).
- Not putting money in your bank (take profit).
Chapter 4 - Charting Software
- Essential Tool for charting.
- Important things to consider when deciding which software:
- Data Sources
- Features e.g. indicators, drawing tools
- Accuracy of indicator formula
- Ease of use
- Ability to customise
- Real time trading
Points 1 - 5 are basic considerations. Points 6 - 10 are advanced considerations.
Free Charting Software
Note: This section is updated 06 December 2016. The original recommendations made in 2006 are now obsolete. The best free charting platforms are browser-based.
- Investing.com (multiple markets including stocks, commodities, forex; selected Asian stocks are available).
- Tradesignum.com (good platform for Malaysia, Singapore listed stocks; has pre-defined technical screeners).
- Tradingview.com (excellent platform for international stocks, forex, commodities.
Paid Charting Software
Note: This section is updated 06 December 2016. The original recommendations made in 2006 are now obsolete. The brands below are charting software. Data may or may not be bundled together.
- Amibroker (for Singapore stock investors, Amibroker is an affordable solution for a one-time fee but users must go to separate data vendors).